Dutch housing market: solid as a rock
23-4-2008 | Other news
The International Monetary Fund (IMF) is a very prestigious institution. Its reputation is built on decades of sound policy advice and thorough economic research. Therefore, the moment the newspapers report that the IMF is forecasting a decline in Dutch housing prices, it is really time to get scared. Or is it? Rabobank's Chief Economist Dr. Wim Boonstra explains.
What has happened? In its World Economic Outlook (WEO) the IMF has published a special on the influence of housing market developments on economic stability. This is not surprising given the recent developments in the United States. In the special, the researchers of IMF try to explain the development of residential housing prices for the years 1997 – 2007 for a group of 17 countries. For each country, they used the same set of so-called ‘fundamentals’, such as long and short term interest rates, income growth, credit growth and the change of the working population. For some countries, these fundamentals explain the house prices very accurately, but for other countries there is an unexplained part.
The IMF states that this so-called ‘gap’ could mean that there is a bubble in housing prices. However, it can also be an indication that there are national fundamental factors at work, that are not included in the standard set variables used by the IMF. This is all very carefully explained in the WEO, but many a newspaper prefers to go for the apparently more sexy, but very wrong, conclusion that the Dutch housing market contains a bubble.
Explaining the Dutch housing prices
Therefore, let’s lend the researchers of the IMF a hand in explaining what’s going on behind the dikes. The increase in Dutch housing prices can be explained by a number of fundamentals, that includes several factors that are specific to the Dutch situation. In addition to the variables used by the IMF, one can point to several factors that easily explain the remaining gap of 30%.
First, the IMF notes that “changes in the availability of mortgage financing” could be a relevant factor that is not taken into account. In the Netherlands, the introduction of the anti-discrimination law in the middle of the 1990’s forced banks to extend mortgage loans based on incomes of both partners (in case of a family). This made an end to the long standing tradition in Dutch banking of basing mortgage loans on the income of the partner with the highest income (breadwinner or provider). As a result, the borrowing capacity of families increased dramatically, which explains to a large extent the exceptional jump in Dutch house prices at the turn of the century (that is included in the present analysis).
Halving the interest burden
Second, mortgage interest payments are fully tax deductible, in practice almost halving the interest burden of residential borrowers. Third, in many cases it still is cheaper to buy a house than to rent one, which is why many people who live in a rented house would rather buy one. However, this potential demand so far is rather hindered because of the fourth factor: lacking supply.
Lacking supply
There is a large backlog, estimated at around 100,000, new houses. Moreover, available supply does not meet actual demand quantitatively.
Include these four national factors in the IMF-model and the largest part of the unexplained gap is likely to disappear like snow in the sunshine. National institutions that follow housing price developments, like CPB National Bureau for Policy Analysis, have calculated that there actually is no unexplainable increase in prices in the Netherlands.
In a housing market like in the Netherlands, with a lot of latent demand and inelastic supply, it is not very likely that prices will come down. Moreover, Dutch mortgages have long fixed-interest periods, there is no subprime segment of any significance and banks still are relatively conservative in their lending practices. Whatever the papers may say about a wrongly understood piece of research by the IMF, Dutch mortgages are solid as a brick house, and the Dutch housing market is solid as a rock.
Dr. Wim Boonstra, Chief Economist Rabobank Group
Dr. Boonstra has published numerous articles on banking, financial markets, international economics and business cycles.